NASAA’s MODEL ACCREDITED INVESTOR EXEMPTION
By John W. Cones
In January of 1997, NASAA encouraged all states to adopt rules similar to, but simpler than, the one adopted in California. Though many states have now adopted legislation to allow those businesses trying to raise funds to “advertise”, most of the states promulgated laws limit sales to “Accredited” as opposed to the “Qualified Investors” as in the California version, and limited the amount of money that could be raised to $1 million, as opposed to the limit of $5 million, imposed on the California 25102(n) by federal law. Thus, for inter-state offerings, the California exemption is not all that useful.
Furthermore, the states other than California that adopted such a public/private “hybrid” exemption paired it with Regulation D, Rule 504 at the federal level as opposed to the intrastate exemption [Section 3(a)(11)] which was the federal exemption intended to be used in conjunction with the California exemption.
As a consequence, an issuer can make an offering of securities to accredited investors via a “General Announcement” in a significant number of, but not all states pursuant to the Model Accredited Investor Exemption and Regulation D, Rule 504. Notice filings are still required in each state under the MAIE.
Elements of the MAIE
NASAA adopted a Model Accredited Investor Exemption (MAIE) on April 27, 1997.
MAIE summary. The Model Accredited Investor Exemption exempts from registration and sales/advertising filing requirements those offers and sales of securities issued to accredited investors. The term “accredited investor” is defined at Regulation D, Rule 501, with a listing of entities and individuals possessing substantial assets and/or net worth. Pursuant to the MAIE, securities may only be sold to persons reasonably believed by issuers to be accredited investors who are purchasing for investment and not for resale. These state exemptions are generally not available to issuers in the development stage of their business or to issuers and affiliates who have been subject to various “bad boy” disqualifying provisions.
Issuers of such securities may use any means to generally announce the proposed offering but unless permitted by the state securities administrator, the information contained in the announcement has to be restricted to the (1) name, address and telephone number of the issuer; (2) name, price and aggregate amount of the offered securities; and (3) brief descriptions of the offered securities and issuer's business. In addition, a statement must be included that indicates (1) the securities will be sold only to accredited investors; (2) no money or other consideration will be solicited or accepted by means of the general announcement; (3) the securities have not been registered with or approved by the SEC (or any other state agency); and (4) the securities are being offered and sold under an exemption to the securities registration requirement. To qualify for the exemption, states typically require issuers to file, within 15 days after the first sale of the securities in the state, a notice of transaction, a consent to service of process, a copy of the general announcement and a fee.
The MAIE was and is intended to serve as a model for state securities regulators to adopt in their respective states so that small businesses seeking to raise $1,000,000 or less can engage in a limited form of advertising without having to register their securities in the state. A majority, but not all states have since adopted a version of the MAIE. This state exemption is intended to be paired with a Regulation D, Rule 504 exemption at the federal level.
More specifically, the MAIE provides that any offer or sale of a security by an issuer in a transaction that meets the requirements of this rule is exempt from those sections of the state’s securities law requiring registration and filing of advertising materials. This allows a film producer to advertise, use the Internet and makes sales without the requirement of a preexisting relationship. The requirements to be complied with are:
Accredited investors only. Sales of securities must be made only to persons who are or the issuer reasonably believes are accredited investors. The term “accredited investor” is defined in the SEC’s Regulation D, Rule 501(a).
No development stage companies. The exemption is not available to an issuer that is in the development stage that either has no specific business plan or purpose or had indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person.
Not for resale. The issuer reasonably believes that all purchasers are purchasing for investment and not with the view to or for sale in connection with a distribution of the security. Any resale of a security sold in reliance on this exemption within 12 months of its original sale will be presumed to be with a view to distribution and not for investment, except a resale pursuant to a registration statement effective under the state’s law relating to the registration of securities to be sold in that state, or to an accredited investor pursuant to an exemption available under the state’s securities act.
“Bad Boy” provisions. The exemption is not available if certain persons associated with the offering have engaged in specifically prescribed conduct in the past five (5) years. Thus, the exemption is not available to an issuer if the issuer, any of the issuer's predecessors, any affiliated issuer, any of the issuer's directors, officers, general partners, beneficial owners of 10 percent or more of any class of its equity securities, any of the issuer's promoters presently connected with the issuer in any capacity, any underwriter of the securities to be offered, or any partner, director or officer of such underwriter: (a) within the last five years, has filed a registration statement which is the subject of a currently effective registration stop order entered by any state securities administrator or the SEC; (b) within the last five years, has been convicted of any criminal offense in connection with the offer, purchase or sale of any security, or involving fraud or deceit; (c) is currently subject to any state or federal administrative enforcement order or judgment, entered within the last five years, finding fraud or deceit in connection with the purchase or sale of any security; or (d) is currently subject to any order, judgment or decree of any court of competent jurisdiction, entered within the last five years, temporarily, preliminary or permanently restraining or enjoining such party from engaging in or continuing to engage in any conduct or practice involving fraud or deceit in connection with the purchase or sale of any security.
The above-referenced “bad boy” disqualifying provisions do not apply if: (a) the party subject to the disqualification is licensed or registered to conduct securities related business in the state in which the order, judgment or decree creating the disqualification was entered against such party; (b) before the first offer under this exemption, the state securities administrator, or the court or regulatory authority that entered the order, judgment, or decree, waives the disqualification; or (c) the issuer establishes that it did not know and in the exercise of reasonable care, based on a factual inquiry, could not have known that a disqualification existed under this paragraph.
Limited advertising. A general announcement of the proposed offering may be made by any means, but the general announcement can only include the following information, unless additional information is specifically permitted by the state’s securities regulator:
(1) the name, address and telephone number of the issuer of the securities;
(2) the name, a brief description and price (if known) of any security to be issued;
(3) a brief description of the business of the issuer in 25 words or less;
(4) the type, number and aggregate amount of securities being offered;
(5) the name, address and telephone number of the person to contact for additional information; and
(6) a statement that: (a) sales will only be made to accredited investors; (b) no money or other consideration is being solicited or will be accepted by way of this general announcement; and (c) the securities have not been registered with or approved by any state securities agency or the SEC and are being offered and sold pursuant to an exemption from registration.
Use of the Internet. The issuer, in connection with an offer, may provide information in addition to the general announcement described above, if such information: (1) is delivered through an electronic database that is restricted to persons who have been pre-qualified as accredited investors; or (2) is delivered after the issuer reasonably believes that the prospective purchaser is an accredited investor.
Telephone solicitation. No telephone solicitation is permitted unless prior to placing the call, the issuer reasonably believes that the prospective purchaser to be solicited is an accredited investor.
Unqualified recipients. Dissemination of the general announcement of the proposed offering to persons who are not accredited investors will not disqualify the issuer from claiming the exemption under this rule.
Notice filings. The issuer must file with each state regulatory agency in the state’s in which sales occur a notice of transaction, a consent to service of process, a copy of the general announcement, and the prescribed fee within 15 days after the first sale in each state.
Even though no specific disclosure requirements are imposed, a film producer would still need to provide each prospective investor with a securities disclosure document that complies with the antifraud rule (i.e., disclose all material aspects of the transaction, do not omit anything that is important and state what is disclosed in a manner that is not misleading). On the other hand, such a disclosure document can be delivered electronically (i.e., through the Internet).
The two major differences between the two schemes (that adopted by California and that adopted by the other states pursuant to the NASAA model) is that (1) California requires and defines “Qualified Investors” whereas the other states require the less complicated “Accredited Investor” definition as already set forth in Regulation D, and (2) California allows up to $5 million to be raised, whereas the other states impose a ceiling of $1 million. So if a film producer believes he or she can raise all of the money in the one state of California, it may make sense to use the California Section 25102(n) exemption (but for the other limitations imposed by the Instrastate Exemption – see discussion at Chapter 11) While, on the other hand, if a film producer believes that he or she may need to raise money in more than the one state of California and can limit the amount of money raised from investors to $1 million, it may be worthwhile to investigate which states have adopted the NASAA model and use that approach, combined with an Internet announcement.
NASAA’s adoption of the MAIE was not actually a response to the California Section 25102(n) concept, but was rather in response to the Small Business Administration's ACE-NET program (now defunct or at least in private hands). A majority of the states, the District of Columbia and Puerto Rico have adopted the MAIE which works in conjunction with the federal Rule 504 of Reg. D with its $1 million dollar limit. Even as to those states that have not adopted the MAIE, almost all have some form of exemption pertaining to accredited investors.
Use of the Internet. The use of the Internet as a means of disseminating the General Announcement and delivering the Offeree Questionnaire and Disclosure Document has been approved by the securities regulators for MAIE offerings. They have expressed the opinion that the downloading of such materials complies with the requirements of being “published by written document only.
The Internet may also provide a platform from which to obtain leads. However, the follow-up must be done rather precisely in order to “qualify” the purchaser. In addition, the producer or producer’s attorney must be sure to check with the securities regulator in each state where sales or proposed, to be certain that the conduct of the offering complies with the applicable state rule. Presumably, as the Internet attracts more investors looking for opportunities, the California Section 25102(n) and MAIE exemptions may become the preferred types of offerings for those who have limited access to “qualified” investors and who are only seeking a limited amount of funds (if it can be demonstrated that Internet offerings actually work).
On the other hand, that underlying assumption may never come true, in that investors rarely look for investment opportunities anywhere, much less on the Internet, and there is even less reason to believe that very many investors will set out specifically to find an investment opportunity in a high risk investment like independent film. It is more likely true that most securities are “sold”, not “bought”, meaning that the sale of a security, including interests in film LPs or LLCs are more likely to be sold through means of a face-to-face meeting with someone known to the producer and his or her upper level management, than through some Internet scheme.
Advertising and general solicitation. The MAIE allows a limited amount of advertising and general solicitation for non-registered offerings of $1 million dollars or less.
Of limited use. If an offering extends into other states that have not adopted the MAIE, the permitted general announcement in California would be “integrated” into the other states’ offering and this would prevent any private placement in those states, since the general announcement would be considered a general solicitation (public offering).
Smaller pool of prospective investors. Arbitrarily limiting the pool of prospective investors to only accredited investors that reside in the single state of California significantly shrinks the pool of prospective investors for the offering.
Internet sales. The ability to effectively sell film offerings to investors over the Internet has yet to be demonstrated.
Public/Registered OfferingsIf a filmmaker believes he or she needs to seek to raise money from an even larger pool of prospective investors than that available for a private placement or a so-called public/private “hybrid” offering, one of the public/registered securities offerings to a large group of passive investors may be appropriate. The public/registered offerings typically allow the issuers to advertise and to conduct a general solicitation.